Cisco Systems, Inc. — Form 10-Q Summary
Reporting period: Fiscal second quarter ended January 23, 2016; comparisons are with the quarter ended January 24, 2015. The six-month comparison covers the first half of fiscal 2016 versus the first half of fiscal 2015. Fiscal 2016 is a 53-week year. Financial statements are unaudited.
Financial performance
Amounts below are in millions of dollars, except per-share data and percentages.
| Metric | Q2 FY2016 | Q2 FY2015 | Six months FY2016 | Six months FY2015 |
|---|---|---|---|---|
| Revenue | $11,927 | $11,936 | $24,609 | $24,181 |
| Gross profit / margin | $7,432 / 62.3% | $7,090 / 59.4% | $15,264 / 62.0% | $14,423 / 59.6% |
| Operating income / margin | $3,294 / 27.6% | $2,622 / 22.0% | $6,373 / 25.9% | $4,964 / 20.5% |
| Net income | $3,147 | $2,397 | $5,577 | $4,225 |
| Diluted EPS | $0.62 | $0.46 | $1.09 | $0.82 |
| Operating cash flow | Not separately provided | Not separately provided | $6,688 | $5,374 |
- Quarterly revenue was nearly flat year over year; product revenue declined 1% while service revenue grew 3%. Excluding the divested Service Provider Video customer-premises-equipment business, management reported quarterly revenue growth of 2%.
- For the six months, revenue increased 1.8%, with product and service revenue each up about 2%. Security, Collaboration, and Data Center were among the stronger product categories over the half; Service Provider Video revenue fell following the divestiture.
- Six-month free cash flow, defined by Cisco as operating cash flow less property-and-equipment purchases, was $6,112 million, up from $4,824 million. Capital expenditures were $576 million.
Liquidity, debt, and capital allocation
- Cash and cash equivalents plus investments totaled $60,375 million at January 23, 2016, little changed from $60,416 million at July 25, 2015. Of the January balance, $56.5 billion was held by foreign subsidiaries and $3.9 billion was available in the United States; repatriation could trigger additional taxes.
- Total assets were $112,642 million, total liabilities $51,764 million, and equity $60,878 million. Current assets were $75,005 million versus current liabilities of $22,799 million.
- Debt carrying value was $24,599 million: $3,008 million current and $21,591 million long-term. Principal outstanding was $24.4 billion, including $3.0 billion due in February 2016. Cisco reported compliance with debt covenants and no borrowings on its $3.0 billion revolving facility.
- Six-month cash returns included $2,133 million of dividends and $2,344 million of program repurchases. After quarter-end, the board authorized a $15 billion increase to the repurchase program and declared a quarterly dividend of $0.26 per share.
- Management stated that liquidity, operating cash generation, capital-market access, and committed credit lines were expected to meet requirements for at least the next 12 months.
Material changes and unusual items
- Gross margin improved 2.9 percentage points in Q2. Management attributed the increase to productivity, lower acquired-intangible amortization and impairment, and the sale of the lower-margin video equipment business; price pressure and product mix partly offset these benefits.
- Operating results included a $286 million pretax gain on the video-business divestiture. The sale closed November 20, 2015, for $372 million cash and $170 million of Technicolor stock; related revenue will not recur.
- The effective tax rate was 4.8% for Q2 and 13.4% for the first half, compared with 16.6% and 19.3%, respectively, in the prior-year periods. The current periods included approximately $523 million of tax benefits, principally a $367 million IRS audit settlement benefit and $156 million from reinstatement of the federal R&D tax credit. Thus, reported earnings growth benefited materially from nonrecurring tax items.
- Six-month other income included net investment losses of $67 million, compared with net gains of $177 million a year earlier, including increased impairments of privately held investments.
- Cisco completed seven acquisitions for total purchase consideration of $1.168 billion in the first half, including OpenDNS and Lancope. After quarter-end, it completed the approximately $550 million Acano acquisition and announced a proposed approximately $1.4 billion Jasper acquisition.
Management commentary, outlook, and risks
- Management cited macroeconomic uncertainty and softer customer spending as pressures on enterprise and public-sector product demand. Switching fell 4% in Q2 and Data Center fell 3%; Security rose 11%, NGN Routing 5%, and Collaboration 3%.
- Regional performance was mixed: Q2 revenue declined 2.7% in the Americas, was essentially flat in EMEA, and increased 10.5% in APJC. Cisco reported growth in China, India, and Mexico, but sharp declines in Brazil and Russia. Management said it was assessing whether emerging-market improvement would be sustained.
- No specific revenue or earnings guidance is provided in the supplied filing text. Management cautioned that quarterly results may fluctuate and highlighted demand, pricing, product mix, supply-chain constraints, competition, customer financing, and currency effects as risks.
- Material contingencies include Brazilian tax claims of approximately $2.08 billion in aggregate, including tax, interest, and penalties; Cisco disputes the claims but cannot estimate the likelihood or range of loss. The company also reported an SEC/DOJ-requested investigation into possible FCPA violations involving Russia and certain CIS operations, which together represented less than 2% of revenue; Cisco did not expect a material financial effect.
- Cisco disclosed indemnification exposure related to Sprint patent litigation involving service-provider customers; the outcome and potential obligation could not be reasonably estimated. It also carried a $375 million liability for remediation of products containing certain supplier memory components.
Most important facts for investors to verify
- How much of the earnings and margin improvement is repeatable after excluding the divestiture gain, tax benefits, and prior-year patent and impairment charges.
- Whether underlying demand stabilizes, particularly in enterprise, public sector, switching, and data-center products, and whether emerging-market gains persist.
- How Cisco meets the $3.0 billion February 2016 debt maturity and how much offshore cash can be used domestically without additional tax cost.
- Execution and funding of announced acquisitions and the implications of the enlarged buyback authorization for cash, debt, and share count.
- Developments in the Brazilian tax claims, FCPA investigation, Sprint-related indemnification matters, and the supplier-component remediation obligation.